A Process-Oriented Guide with Timeline Visualization
Default and restructuring is the process by which failing companies and their creditors negotiate new terms to avoid bankruptcy—or when that fails, how value is distributed through a formal bankruptcy process.
Creditors want: Maximum recovery, fast resolution, control over assets
Company wants: Time to fix problems, flexibility to operate, avoid liquidation
Equity wants: Preserve some value, maintain ownership
Restructuring is the negotiation between these competing interests under extreme time and financial pressure.
Every month in financial distress burns cash, loses customers, drives away employees. Fast resolution preserves more value for everyone.
Senior secured: 60-80% recovery
Second lien: 20-40%
Unsecured: 10-30%
Equity: Often $0
With hundreds of creditors, reaching agreement is challenging. Some want to liquidate, others want to restructure. Holdouts can block deals.
Chapter 11 provides legal tools to bind dissenters, reject contracts, and restructure when out-of-court negotiations fail.
| Approach | Description | Timeline | Pros | Cons |
|---|---|---|---|---|
| Covenant Waiver | Lenders temporarily waive breach | Days to weeks | Fast, cheap, maintains relationships | Only works for temporary issues |
| Amendment | Modify terms (extend maturity, ease covenants) | 1-3 months | Avoids default stigma, preserves credit | Lenders demand fees, tighter terms |
| Out-of-Court Restructuring | Negotiate debt reduction with all creditors | 3-9 months | Private, flexible, cheaper than bankruptcy | Requires unanimous consent, no cramdown |
| Prepackaged Bankruptcy | Negotiate deal, then file Ch 11 to bind dissenters | 2-6 months in court | Fast, creditor support, binds holdouts | Public, expensive, complex |
| Traditional Chapter 11 | File bankruptcy, negotiate plan in court | 12-24+ months | Binds dissenters, time to restructure, DIP financing | Very expensive ($10M+ fees), value destruction |
| Chapter 7 Liquidation | Sell all assets, distribute to creditors | 6-18 months | Definitive, no ongoing operations needed | Destroys going-concern value |
Defaults fall into two categories: payment defaults (can't pay) and technical defaults (break a rule but can still pay).
Trigger: Miss an interest or principal payment
Grace Period: Usually 3-5 business days
Severity: Most serious - immediate event of default
Example: "$10M interest payment due March 15. Company only has $8M. Default on March 20 if not cured."
Trigger: Break financial ratio (leverage, coverage)
Testing: Quarterly with compliance certificate
Severity: High - gives lenders control even if paying
Example: "Total Leverage = 5.2x but covenant limit is 5.0x. Default on filing date."
Trigger: Default on another debt agreement
Threshold: Usually >$10-25M of other debt
Purpose: Prevents selective default
Example: "Default on bond triggers cross-default on bank loan even if bank loan current."
Trigger: File Chapter 11 (or involuntary petition filed)
Automatic: No grace period, automatic default
Effect: Triggers acceleration, all debt due immediately
Key: Bankruptcy stay prevents creditors from collecting
Trigger: Significant business deterioration
Difficulty: Very hard to enforce (vague definition)
Rare: Almost never successfully invoked
Example: "Loss of major customer representing 60% of revenue"
Trigger: Court judgment >$10-25M unsatisfied for 30+ days
Purpose: Protects against hidden liabilities
Grace: Usually 30-60 days to appeal or satisfy
Example: "Lawsuit judgment of $50M. Must satisfy or post bond within 30 days."
Declare all principal, interest, and fees immediately due and payable. Entire debt becomes a demand loan. This is usually the first step to get borrower's attention.
Cut off access to revolving credit facility. No more draws even if borrowing base allows. Squeezes liquidity to force negotiations.
Interest rate increases by +200 bps (2%). If base rate was SOFR + 4%, now SOFR + 6%. Makes debt more expensive while in default.
For secured lenders: Begin foreclosure process. Take possession of collateral (inventory, equipment, receivables). Sell assets to recover debt.
Force company to choose: (a) pay in full immediately, (b) negotiate restructuring, or (c) file Chapter 11 bankruptcy. Creates urgency.
Even with the right to accelerate and foreclose, lenders often don't immediately exercise these rights because:
• Recovery may be higher if company survives: Liquidation often yields 30-50 cents on the dollar. Restructuring might yield 70-80 cents.
• Foreclosure is expensive and slow: Legal fees, auction costs, holding costs add up quickly.
• Business relationships: Being too aggressive damages reputation with private equity sponsors (who are repeat customers).
• Regulatory attention: Aggressive foreclosure can bring regulatory scrutiny, especially for banks.
This is why most defaults result in negotiation, not immediate liquidation.
This timeline shows the typical progression from early warning signs through final restructuring. Each phase involves different stakeholders, decisions, and urgency levels.
What's happening: Declining sales, margin pressure, losing key customers
Financial impact: EBITDA down 10-15%, burning cash
Covenant status: Still compliant but headroom shrinking (30% → 15%)
Actions: Management implements cost cuts, tries to fix operations
Covenant headroom: Down to 5-10% (getting tight)
Bank response: Increased monitoring, weekly calls with CFO
Liquidity concerns: Revolver usage increasing (50% → 80% drawn)
Sponsor actions: Consider equity injection or asset sales
Trigger: Covenant breach (Total Leverage 5.3x vs 5.0x limit)
OR: Missed interest payment ($5M short on $10M due)
Immediate effect: Event of default declared
Lender rights: Can accelerate, stop lending, increase rates
Company status: In technical default but still operating
Lender response: Form steering committee, hire legal counsel
Company response: Hire restructuring advisor (e.g., AlixPartners, FTI)
Initial ask: Company requests 60-90 day forbearance
Enhanced reporting: Weekly cash flow reports required
Signed: 60-day forbearance (lenders agree not to accelerate)
Conditions: Acknowledge default, pay 1-2% forbearance fee
Restrictions: No dividends, no new debt, no asset sales >$1M without consent
Deliverables: 13-week cash flow forecast, operational improvement plan
Milestone: Present restructuring options by Week 8
Advisors complete: 100-day operational assessment
Valuation work: Enterprise value $180M vs $200M debt
Conclusion: Company is insolvent (liabilities > assets)
Prognosis: Needs debt reduction + operational turnaround
Management Plan: Extend maturities 3 years, reduce debt 10%
Senior Lender Plan: Convert $50M debt to equity, take control
Junior Lender View: Fight for value, propose operational turnaround
Equity Sponsor: Willing to inject $20M for meaningful ownership
Multiple creditor groups: Senior lenders ($120M), second lien ($40M), unsecured ($40M)
Key issue: Who gets what in restructured company?
Valuation dispute: Is company worth $150M or $200M?
Term sheet: First draft circulated to creditor groups
Ad hoc group: 65% of senior lenders form steering committee
Legal advisors: Paul Weiss for seniors, Kirkland for juniors
Professional fees: Already at $3M and climbing
Company operations: Deteriorating (down 20% revenue vs last year)
Out-of-court deal: 70% of creditors support, but 30% holdouts blocking
Alternative: File Chapter 11 to bind holdouts (prepackaged bankruptcy)
Urgency increasing: Cash burn accelerating, customers nervous
Liquidity crisis: Only $10M cash left, need $5M/month to operate
Filing: Voluntary Chapter 11 bankruptcy petition
First day motions: Approved to pay employees, vendors
DIP Financing: $30M debtor-in-possession loan to fund operations
Automatic stay: All creditor actions halted by court order
Management: Continues to run company (debtor in possession)
Plan of Reorganization: Detailed proposal filed with court
Treatment: Senior gets 95% of equity, second lien gets 5%, unsecured/equity get $0
Disclosure statement: Describes plan, valuation, voting process
Creditor reaction: Juniors object to valuation
Voting results: 88% of senior lenders approve, 40% of junior approve
Cramdown needed: Court must force plan on dissenting juniors
Confirmation hearing: Scheduled for Month 13
Opposition: Juniors argue company worth more, they should get equity
Court ruling: Plan approved over junior creditor objections
Effective date: 30 days to implement restructuring
New capital structure: $80M debt (down from $200M)
Ownership: Former senior lenders now own 95% of equity
Total cost: $18M in professional fees during bankruptcy
Exit: Company exits Chapter 11
New board: Installed by creditors who now own company
Going forward: Operates with clean balance sheet
Recovery: Seniors recovered 65 cents on dollar (through equity), juniors got 5 cents, unsecured got 0
| Timeframe | Key Event | Critical Decisions | Typical Outcomes |
|---|---|---|---|
| Months -12 to 0 | Warning signs → Default | Can operations be fixed? Need new capital? | Cost cuts, asset sales, covenant amendments |
| Weeks 1-4 | Default → Forbearance | Forbearance terms, advisor selection | 60-90 day forbearance signed |
| Months 2-5 | Assessment → Negotiation | Restructuring strategy, creditor treatment | Term sheet development, creditor alignment |
| Month 6 | Decision Point | Out-of-court deal vs bankruptcy? | If can't get agreement → File Chapter 11 |
| Months 6-15 | Bankruptcy Process | Plan structure, valuation fights | Plan filed, voted, confirmed |
| Month 15-18 | Implementation | Operational execution of plan | Emergence from bankruptcy |
Here's what actually happens during a restructuring, from the perspective of all key parties.
Company: Delivers compliance certificate showing covenant breach OR misses payment
Administrative agent: Sends default notice to all lenders
Legal status: Event of default has occurred
Clock starts: Lenders have remedies but typically don't exercise immediately
Who: Board of directors, management, equity sponsor
Purpose: Assess situation, decide response strategy
Decisions: (a) Request forbearance (b) Hire advisors (c) Authorize management to negotiate
Legal duty: Board's duty shifts from equity to ALL stakeholders (zone of insolvency)
Financial advisor: AlixPartners, FTI Consulting, A&M ($500-1000/hour, $2M+ total)
Legal counsel: Restructuring lawyers (Weil, Kirkland, Davis Polk) ($1,000-1,500/hour)
Scope: Situation assessment, cash flow forecast, restructuring alternatives
Deliverable: 13-week cash flow model, operational assessment
Who: Largest lenders (often holding 50-70% of loan)
Purpose: Coordinate lender response, negotiate for group
Hire advisors: Own financial advisor and legal counsel (paid by borrower per credit agreement)
Initial meeting: Assess situation, determine strategy (forbear vs accelerate)
Company request: "Give us 60-90 days to fix this"
Lender conditions: (1) Acknowledge default, waive defenses (2) Pay 1-2% forbearance fee (3) Enhanced reporting (weekly cash flow) (4) Restrictions (no dividends, no asset sales, no new debt)
Typical outcome: 60 days granted with milestones
Financial advisor: Completes 100-day plan
Key questions: (a) Is business viable? (b) What's it worth? (c) How much debt can it support?
Findings: "EBITDA can stabilize at $30M with cost cuts. Enterprise value $150-180M. Current debt $200M = insolvent"
Multiple approaches: (1) Going concern: $180M based on 6x distressed EBITDA (2) Liquidation: $120M based on asset appraisals
Waterfall: $180M enterprise value → $120M to seniors (60% recovery), $40M to second lien (100%), rest to unsecured (partial)
Dispute: Juniors argue company worth $250M, seniors say $150M
Option A - Amendment: Extend maturity 2 years, ease covenants. Pros: Fast, cheap. Cons: Doesn't fix insolvency.
Option B - Debt-for-Equity Swap: Convert $70M debt to equity. Pros: Right-sizes capital structure. Cons: Dilutes existing equity to zero.
Option C - Asset Sale: Sell company to strategic buyer. Pros: Maximizes value. Cons: Juniors may get nothing.
Option D - Liquidation: Shut down, sell assets. Pros: Definitive. Cons: Lowest recovery.
Proposed treatment:
• Seniors ($120M): Get 80% of equity + $50M new debt = ~$180M value
• Second lien ($40M): Get 20% of equity = ~$45M value
• Unsecured ($40M): Get warrants for 5% of equity
• Existing equity: Wiped out
Recovery: Seniors 150%, Second lien 112%, Unsecured 12%, Equity 0%
Senior lenders: Want quick exit. Will take equity but prefer cash if possible. Control enforcement rights.
Second lien: Want more equity. Argue company worth more than seniors say. Have standstill (can't act for 180 days).
Unsecured: Out of the money. Want any recovery. May need bankruptcy cramdown.
Equity sponsor: Trying to preserve some value. Offers $20M new money for 15% equity.
Round 1: Seniors demand 90% equity, juniors counter at 40%
Round 2: Valuation dispute. Hire third-party appraiser.
Round 3: Settle on ~$170M valuation
Round 4: Equity allocation: 75% seniors, 20% second lien, 5% unsecured
Holdout problem: 30% of second lien won't agree
Out-of-court pros: Cheaper ($2-5M fees), faster (3-6 months), private
Out-of-court cons: Needs 100% agreement, no cramdown, vulnerable to holdouts
Bankruptcy pros: Binds dissenters (cramdown), can reject contracts, automatic stay
Bankruptcy cons: Very expensive ($10-25M fees), slow (12-24 months), public stigma
Decision: File prepackaged Chapter 11 to bind holdouts
Every month costs $1-2M in fees plus operational deterioration. Fast deals preserve more value for everyone.
Getting 75-80% creditor support before filing Chapter 11 (prepackaged plan) dramatically improves outcomes.
Companies need cash to operate during restructuring. DIP financing ($30-100M typical) is critical for bankruptcy scenarios.
Full disclosure to creditors (13-week cash flow, operational metrics) builds trust and facilitates negotiation.
Different situations call for different restructuring approaches. Here's how to decide which path to take.
Business model works, just over-leveraged or temporary issues
→ Pursue Restructuring
Obsolete product, secular decline, no viable path forward
→ Liquidate Assets
Simple capital structure, cooperative creditors, clear valuation
→ Out-of-Court Deal
Majority support but minority blocking consensus
→ Prepackaged Bankruptcy
Major creditor disputes, unclear valuation, need time to fix operations
→ Traditional Chapter 11
| Attribute | Out-of-Court | Prepackaged Ch 11 | Traditional Ch 11 | Liquidation |
|---|---|---|---|---|
| Timeline | 3-6 months | 2-4 months in court (after negotiation) | 12-24+ months | 6-18 months |
| Cost | $2-5M | $8-15M | $15-50M+ | $5-15M |
| Creditor Approval Required | 100% (unanimous) | 2/3 in amount, 1/2 in number per class | 2/3 in amount, 1/2 in number per class | None (court-supervised) |
| Can Bind Dissenters? | No | Yes (cramdown) | Yes (cramdown) | Yes (statutory priority) |
| Publicity | Private | Public (court filings) | Very public | Public |
| Operational Impact | Minimal | Moderate (stigma) | Severe (customer/vendor loss) | Total (wind-down) |
| DIP Financing Available? | No (use existing revolver) | Yes ($30-100M typical) | Yes ($50-500M+) | No (liquidating) |
| Can Reject Contracts? | No | Yes (leases, contracts) | Yes (broad authority) | Yes (wind-down) |
| Typical Recovery (Senior) | 90-100% | 70-90% | 60-80% | 50-70% |
| Typical Recovery (Junior) | 60-80% | 20-50% | 10-40% | 0-20% |
| Best For | Simple structures, aligned creditors, temporary distress | Complex structures, mostly aligned, need cramdown | Major creditor disputes, operational issues, need time | No viable business model, assets > going concern value |
How it works: Creditors cancel debt in exchange for equity ownership
Example: $100M debt converts to 80% of equity. Company now has $20M debt + creditors as owners.
Benefit: Right-sizes balance sheet immediately
Downside: Existing equity wiped out, creditors become reluctant owners
How it works: Push debt maturity out 2-5 years
Example: 2025 maturity → 2029 maturity. Buys time to fix operations.
Benefit: Simple, preserves relationships
Downside: Doesn't reduce debt burden, just delays problem
How it works: Reduce principal amount owed
Example: $150M debt → $100M debt. Forgive $50M.
Benefit: Permanently fixes over-leverage
Downside: Requires creditor cooperation (or bankruptcy cramdown)
How it works: Sell divisions/assets to pay down debt
Example: Sell European division for $60M, use proceeds to repay senior debt
Benefit: Generates cash, simplifies business
Downside: May sell crown jewels, reduces future cash flow
How it works: Sponsor or creditors invest new capital
Example: PE sponsor puts in $30M new equity to pay down debt and fund operations
Benefit: Provides liquidity, shows confidence
Downside: Dilutes existing equity, sponsor may not want to invest in failing company
Let's walk through a complete restructuring from start to finish using a realistic example.
Industry: Specialty apparel retail
Stores: 450 locations nationwide
Employees: 12,000
Revenue: $1.2B annually
Problem: E-commerce competition, declining mall traffic
ABL Revolver: $200M (fully drawn)
Term Loan: $300M
High Yield Bonds: $250M
Total Debt: $750M
Equity: Owned by PE firm (2019 LBO)
Q3 Results: EBITDA $80M (down from $120M prior year)
Leverage: 9.4x ($750M / $80M) — covenant limit is 8.5x
Problem: Will breach covenant in Q4
Action: CFO calls lenders, requests amendment
Lender response: "No amendment. Need restructuring plan."
Q4 Compliance Certificate: Total Leverage 10.2x vs 8.5x limit → DEFAULT
Board action: Hires FTI Consulting (restructuring advisor) for $2M engagement
Lender action: Forms steering committee, hires Weil Gotshal (legal counsel)
Forbearance: 90 days granted. Conditions: (1) Pay $5M forbearance fee (1% of debt) (2) Weekly cash flow reporting (3) No dividends, no new debt, no asset sales >$5M
Deliverable: Present restructuring plan by Month 3
FTI analysis:
• Close 150 underperforming stores → Save $30M annually
• Renegotiate leases on remaining 300 stores → Save $20M annually
• Reduce corporate overhead → Save $10M annually
• Pro forma EBITDA: $100M (stabilized)
Valuation:
• Going concern: 5x EBITDA = $500M enterprise value
• Liquidation: $350M (inventory + fixtures at discount)
• Conclusion: Company worth $500M, debt is $750M → insolvent by $250M
Management Plan to Lenders:
• Close 150 stores over 6 months
• Pay ABL in full ($200M remains outstanding)
• Term loan ($300M): Convert to $150M new term loan + 60% of equity
• High yield bonds ($250M): Convert to 40% of equity
• Old equity: Wiped out
Recovery Analysis:
• ABL: 100% ($200M cash)
• Term loan: $150M new debt + $300M equity value (60% × $500M) = $450M total = 150% recovery
• High yield: $200M equity value (40% × $500M) = 80% recovery
• Old equity: $0
High yield bondholders object: "Company is worth $650M, not $500M. We should get more equity."
Hire own advisors: Lazard (investment bank) for valuation
Lazard opinion: Worth $600-700M based on comparable retailers
Bondholder counter-proposal: We want 60% of equity, term loan gets 40%
Impasse: Can't reach agreement
Situation:
• Term loan holders (holding $300M): Support original plan (60% equity for them)
• Bondholder holdouts (holding $250M): Demand 60% equity
• Can't reach out-of-court deal (need 100% agreement)
• Cash burning: $5M/month during negotiation
• Only $30M liquidity remaining
Decision: File Chapter 11 to (a) get DIP financing for liquidity (b) cramdown plan over bondholder objections (c) reject underperforming leases under Section 365
Petition filed: Voluntary Chapter 11 in Delaware
First day motions: Approved to (1) pay employees (2) honor customer programs (3) pay critical vendors
DIP financing: $150M DIP facility from ABL lenders (secured by all assets, super-priority)
Automatic stay: All creditor actions halted
Exclusivity: Company has 120 days to file reorganization plan
Store closures: Immediately reject leases on 150 stores, begin liquidation sales
Plan of Reorganization:
• Class 1 - ABL: Paid in full in cash ($200M + accrued interest)
• Class 2 - DIP Lenders: Converted to $150M exit facility (SOFR + 6%)
• Class 3 - Term Loan: Get 65% of new equity + $100M new term loan
• Class 4 - Bonds: Get 35% of new equity
• Class 5 - Old Equity: Cancelled, receive nothing
Valuation (court-approved): $520M going concern
Recovery: ABL 100%, Term loan 138%, Bonds 73%, Equity 0%
Voting: Classes 1-3 vote yes. Class 4 (bonds) expected to reject. Class 5 (equity) deemed to reject (getting $0).
Class 1 (ABL): 100% accept (getting paid in full)
Class 2 (DIP): 100% accept (converting to exit facility)
Class 3 (Term Loan): 97% accept (getting >100% recovery)
Class 4 (Bonds): 52% accept, 48% reject
Class 5 (Equity): Deemed to reject (out of money)
Result: Plan approved by Class 4 (need 2/3 in amount, got 52% — but court uses cramdown to force plan on dissenting 48%)
Bondholder objections:
• "Company worth $700M, we deserve 50% of equity"
• "Plan unfairly discriminates against us"
Court ruling:
• Valuation: Court accepts $520M (between parties' estimates)
• Treatment is fair: Bonds getting 73% recovery, better than liquidation (30%)
• Absolute priority respected: All senior debt paid in full or consents
• Plan CONFIRMED over bondholder objections
Effective date: Plan becomes effective
New capital structure: $250M debt (down from $750M)
New ownership: Former term lenders 65%, former bondholders 35%
Operations: 300 stores (down from 450), $100M EBITDA
Total fees: $22M (FTI, Weil, Lazard, other advisors)
Time in bankruptcy: 9 months
Going forward: Clean balance sheet, new board elected by creditors, hired turnaround CEO
Term lenders said $500M, bondholders said $700M, court settled at $520M. Valuation determines who gets what, so expect fights.
Despite 48% of bondholders voting no, plan was confirmed. Chapter 11 allows majority to bind minority if plan is "fair and equitable."
ABL got 100%, term loan got 138% (through equity upside). Junior debt took losses. This is typical — seniority matters enormously.
9 months in bankruptcy is fast (average is 18 months). This preserved operations and recovered more for creditors than a prolonged case.
$22M in professional fees (3% of debt) is substantial but typical for cases of this size. Prolonged cases can hit $50M+.
Closed 150 stores, rejected leases, liquidated inventory — all while operating remaining stores. DIP financing was essential for liquidity.